hurricane, that would create waves 30 meters high and of course wreak havoc and death among the fishermen caught in its path.1 In the late ‘90s, there was another perfect storm, a rare coincidence of forces which created such turbulence in our financial markets that stock prices were distorted out of all relationship to their normal patterns. Like that nor’easter, there were huge costs to the innocents caught in its grip.

The speculative excesses of the ‘90s threw a harsh light on efficient market theory (EMT), which for decades has been a cornerstone of economic theory and scholarship.2 No B- School student has escaped it; no economics professor has won tenure without paying his respects. EMT has also had significant impact on public policy and investment practices. It is, indeed, an appealingly simple idea, that in order to make money in the stock market one must compete against the “smart money,” the so-called rational investors, who are constantly scouring the market for opportunities. Because of them, all relevant new information is quickly captured by the market. No point in doing research oneself. Trust prices; the rational investors will already have erased most any discrepancy between price and value.3 Since you cannot beat the market, buy a diversified portfolio, say the Standard & Poor’s 500 index fund, and save yourself the cost and sweat of an actively traded account.

Obviously the theory was wrong – woefully so. In the late 1990s, stocks soared to levels out of all proportion to their underlying values, indeed to levels well beyond even the excesses of the 1920s.4 If the NASDAQ Composite Index, for example was right at 1200 in April 1997, it surely wasn’t right at 5000 in March 2000, and then right again at 1100 two years later. (The rise and then almost 50% decline of the broader based S&P 500, though widely noted, was also stunning.5)

Where were those rational investors during these tumultuous years? The Crash of October 1987 had little impact on Main Street

America, but this time the damage was severe. At one point retirees, endowments, and the rest of us had lost $8 trillion,6 and the collective loss

is still about $3 trillion.7 We need to see how this tsunami affected academic thinking. Have scholars looked to see what the rational investors, the cornerstone of their analyses, were doing during these tumultuous years? Was the smart money policing the markets, as the textbooks say? And